Advanced Financial Accounting Ch2 Lecture Notes

Advanced Financial Accounting Ch2 Lecture Notes - 2-1...

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1 2-1 CHAPTER TWO Reporting Intercorporate Interests ACCT400 Advanced Financial Accounting Fall Semester 2008 2-2 Accounting for investments in common stock Depends on level of influence or control that investor is able to exercise over investee 0 to 20% Not significant influence Cost method 20% to 50% Significant influence Equity method 51% to 100% Control Consolidation
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2 2-3 Cost method Use when investor lacks ability to control or exercise significant influence over investee Possible reasons: (1) stock ownership < 20% (2) investee bankruptcy (regardless of ownership level) FASB statement no. 115 – Accounting for certain investments in debt and equity securities Investor records: Investments at historical cost until time of sale Income from investment when investee declares dividends Dividend income 2-4 Textbook example: ABC Company purchases 20% of XYZ Company’s common stock for $100,000 at the beginning of the year but does not gain significant influence over XYZ. During the year, XYZ has net income of $60,000 and pays dividends of $20,000. Entries by ABC: To record initial investment Investment in XYZ Company stock 100,000 Cash 100,000 To record dividends Cash ($20,000 × 20%) 4,000 Dividend income 4,000
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3 2-5 Liquidating dividends : Investee declares dividends in excess of income earned since investor’s acquisition Return of capital Decrease investment In the previous example, if XYZ had zero earnings but declared $20,000 dividends in the year ABC acquired its stocks. To record dividends: Cash 4,000 Investment in XYZ Company stock 4,000 Earnings < dividends Cumulative earnings > cumulative dividends since acquisition No liquidating dividends Earnings < dividends Cumulative earnings < cumulative dividends since acquisition Liquidating dividends Thereafter: Earnings < dividends Compare cumulative earnings and cumulative dividends since date of last liquidating dividends 2-6 If investor switches from equity method to cost method (due to sale of portion of investment), switching date replaces acquisition date in determining liquidating dividends. For acquisition at interim date, investor must estimate amount of income since acquisition date and record dividend income only for that portion Stock dividends, stock splits or reverse split require no journal entries by investor Purchase of additional shares: Record similarly to initial investment If additional shares give ability to exercise significant influence over investee, apply “equity method” retroactively from date of initial investment Sale of shares: Compare proceed with carrying amount of investment Record any “gain/loss on sale of investment” If shares are purchased at different prices, must identify which shares are sold (e.g. specific identification method, FIFO)
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4 2-7 Equity method Intended to reflect investor’s changing equity/interest in
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This note was uploaded on 11/27/2008 for the course ACCT ACCT440 taught by Professor Teresa during the Spring '08 term at University of Manchester.

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Advanced Financial Accounting Ch2 Lecture Notes - 2-1...

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